March 2019

Kai W. Hong, CFA
Managing Partner & Chief Investment Strategist

While significant, the drawdown and market pessimism seen at the end of 2018 was as short-lived as it was dramatic.  A somewhat abrupt about-face from the US Fed from prior hawkishness to moderate dovishness was enough to re-ignite animal spirits and a new round of investor enthusiasm.  While the labor market stayed robust, inflation was largely muted.  That combination gave Fed policy makers room to pause both interest rate increases and balance sheet “normalization” actions.  Further support to the markets was given by positive messaging (although little in concrete results) from US and Chinese trade negotiators.

The recovery in the markets in the first quarter was almost as swift as the previous quarter’s decline.  The Russell 3000 Index finished the quarter with a return of +14.0%.  The rally was fairly broad-based with the Russell 2000 Index returning +14.6% versus the Russell 1000 Index returning +14.0%.  Markets outside of the US lagged, having fallen by less in the recent drawdown.  The developed market MSCI World ex USA Index returned +10.5% while the developing market MSCI Emerging Markets Index returned +9.9%.  Fixed income markets continued to benefit from falling interest rates with the Bloomberg Barclays US Aggregate Index returning +2.9%.

At the Sector level in the US, Information Technology (+20.8%) was the standout for the quarter, more than recovering the prior quarter’s losses.  Real Estate (+17.3%), Industrials (+16.8%), and Energy (+16.6%) were also strongly positive in a period when nine out of eleven sectors posted double-digit returns.  Meanwhile, Health Care (+8.1%) and Financials (+8.8%) posted great but not exceptional results.

Outside of the US, the sector trends were largely the same although the values were slightly less robust.  Information Technology (+15.2%) and Real Estate (+13.8%) led while results in Communication Services (+7.1%) and Financials (+7.7%) were more “modest”.  Health Care (+11.2%) was notable difference, with the companies in aggregate performing better than their US counterparts.  At the country level, the emerging markets of Colombia (+25.4%), China (+17.6%), and Egypt (+16.5%) were the leaders while Turkey (-2.6%) and Qatar (-2.3%) were among the very few countries which posted negative returns.

Market volatility fell back from the short-term highs seen in the prior quarter as implied and actual price volatility measures returned to the lower than average levels of the recent past.  At the factor level, Smaller Size was incrementally positive while Value, Stability, and Yield were meaningfully negative.  An equal-weighted portfolio outperformed the market-cap weighted portfolio as smaller names finally saw some outperformance.